China’s Increasing Openness: Threat or Opportunity to Others?

Ramesh Adhikari and Yongzheng Yang 1

I. Introduction

China’s increasing openness has caused considerable concerns in the rest of the world. These

concerns have been exacerbated by China’s recent accession to the World Trade

Organization (WTO) and proposed free trade agreement with the Association of South East

Nations (ASEAN). Many developing countries, especially those in Asia, fear that

competitive manufactures from China will not only flood their markets, but also replace their

exports in third country markets, especially in industrial country markets. As China becomes

increasingly attractive to foreign direct investment (FDI) with its WTO accession, these

developing countries also fear that FDI may be further diverted away from them, in addition

to luring their domestic investors away from home. There is also a fear that WTO accession

may lead to a devaluation of the Chinese Renminbi, resulting further pressure on the

competitiveness of exports from other developing countries.

This paper will address all these questions. We argue that given China’s sheer size, its

growing openness is bound to cause some dislocation in some developing countries in the

short to medium terms, but it also provides tremendous opportunities for exports and

investment from other developing countries, especially in the long run. Further inflows of

FDI to China will likely to grow at a moderate pace, and this should help maintain the

strength of the Chinese currency, rather than lead to its devaluation.

1
Ramesh Adhikari is a senior capacity building specialist and principal economist at the Asian
Development Bank Institute; and Yongzheng Yang is a senior economist at the International
Monetary Fund. The views expressed in this paper are authors’ own and should not attributed to either the
Asian Development Bank Institute or the International Monetary Fund.
II. China’s Increasing Openness

Pre-WTO reforms. The pre-WTO policy reforms included dismantling central planning,

establishing border protection, trade decentralization and liberalization, relaxing exchange

controls, maintaining a realistic exchange rate, and removing anti-export bias (Adhikari and

Yang 2002; Suppachai and Clifford 2002). The simple average tariff has been falling

consistently from 42.9 percent in 1992 to a low of 15.3 percent in 2001 (Table 1). These

policy reforms led to a rapid expansion of external trade. Total value of trade now represents

over 40 percent of GDP in 2001, as opposed to 10 percent in 1978, when reforms began.

Table 1. Average tariff rates in China, 1992-98 (Percent)

All products a Primary products Manufactures
Simple Weighted Simple Weighted Simple Weighted
1992 42.9 40.6 36.2 22.3 44.9 46.5
1993 39.9 38.4 33.3 20.9 41.8 44.0
1994 36.3 35.5 32.1 19.6 37.6 40.6
1996 23.6 22.6 25.4 20.0 23.1 23.2
1997 17.6 18.2 17.9 20.0 17.5 17.8
1998 17.5 18.7 17.9 20.0 17.4 18.5

a
Simple average tariffs for 2000 and 2001 are 16.4 percent and 15.3 percent,
respectively.
Sources: Ianchovichina and Martin (2001) and Lardy (2002).
Further reforms – the WTO Commitments. China has made strong commitments to opening

its markets and to complying with WTO rules, providing unprecedented opportunities for

exports from its trading partners. China is also expected to further expand its exports of

labor- intensive goods, increasing the competitive pressure on its competing trade partners.

China’s opening up of domestic markets is expected to attract more FDI from Asia as well as

from other parts of the world.

Table 1. Summary of WTO Commitments

Industries Key Commitments
Agriculture Farm subsidy - 8.5% of value of domestic production. Eliminate export
subsidies. Average bound tariff down to 15% (1-3% in-quota rate and up
to 65% above-quota rate on cereals), further reductions mostly by 2004.

Industrial Average bound tariff down to 8.9% (highest 47% on photo films)
Goods
Automobiles Import tariffs on automobiles to 25% by mid-2006 from current 80-100%.
Restrictions on category, type and model of vehicles produced to be lifted
in two years
Banking Foreign bank local currency business: with local corporate within two
years after accession, with local residents five years.
Geographic restrictions on foreign banking business to be lifted over five
years
Insurance Foreign ownership: 50% of life-insurance and 100% of nonlife insurance
(property/casualty); geographic/business restrictions will be gradually
phased out
Securities Minority foreign-owned joint ventures in fund management industry
Foreign ownership up to 49% in five years
Distribution Foreign companies are allowed to set up joint ventures within two years
after accession with majority ownership and without geographic
restrictions, with exceptions for a few products.
Accounting Foreign accountants passed China’s registered accountant tests can enjoy
firms national treatment in setting up account firms (joint ventures)
Telecommuni Foreign company stakes: 25% in mobile phone, up to 35% in one year and
cations 49% after three years; area restriction will be lifted after 5 years.

State trading State trading will continue in cereals, tobacco, fuels and minerals
and trading All enterprises will be free to import or export after 3 years
rights
Others Transitional safeguard mechanism for 12 years
Antidumping based non-market economy rules for 15 years.
Textile and clothing quotas to be removed at the beginning of 2005, but a
special safeguard remains valid until the end of 2008.
Source: Compiled from WTO documents
China’s FTA with the ASEAN. China and ASEAN have agreed to establish a free trade area

(FTA) between them within a decade. This agreement has the potential to create an FTA of

more than $2 trillion GDP, with 30% of the world's population (1.7 billion). The FTA covers

five key areas: agriculture; information technology; human resources; direct investments; and

the development of Mekong river basin. It is designed to tap complementarities and promote

intra-regional trade (OAPP 2001).

II. Implications of China’s increasing openness.

Overall impact. Recent studies consistently show that China’s WTO accession will benefit

the global economy; China and industrial countries will benefit the most, and some

developing countries may lose (Ianchovichina and Martin 2001; Zhi Wang 2001; Lardy

2002). However, there is considerable uncertainty about the timing, magnitude, and the

duration of these effects. These studies tend to focus on short to medium term effects of tariff

reductions; they do not take into account the potential effects of further reforms of domestic

policies for WTO compliance, the opening of the services sector, or possible long-term

effects in general.

Impact on ASEAN countries. There has been a general perception that ASEAN goods have a

20-30% cost disadvantage against Chinese goods (Ramli 2002). It is feared that an FTA

between ASEAN and China would adversely affect local production and associated

employment in ASEAN countries. It should be noted, however, China’s exports have entered

a subsidy- free regime and rules-based trading. The FTA would also mean opening of China’s

huge domestic market for ASEAN goods, particularly energy and agriculture related goods.
So the ensuing trade policy and strategic concern should be how to export more to China

under the open regime, rather than trying to protect inefficient industries.

It is important to emphasize that China cannot be competitive in everything. There is

considerable complementarity between China and ASEAN countries. Some ASEAN

countries are well positioned to provide China with competitive manufactured goods (e.g.,

intermediate inputs), and others can become large suppliers to China of resource-based

commodities. In general, ASEAN countries, particularly those having comparative advantage

in agriculture, natural resources and high-tech goods are likely to benefit the most from an

FTA with China.

Will China remain a price-maker for labor-intensive goods? China has abundant supply of

relatively educated labor. The likely reforms of state-owned enterprises and agriculture will

result in additional efffective supply of labor. Thus, China will remain competitive in labor-

intensive exports for a foreseeable future. In fact, in some industries, China’s

competitiveness will increase after its WTO accession. In the past, China’s exports,

particularly textiles and clothing, were subjected to various entry restrictions. Many of these

restrictions will be phased out as a result of China’s WTO accession. Developing countries

that also specialize in these products will be under increasing pressure from Chinese

suppliers. As restrictions on Chinese exports will be phased out only gradually, e.g., textiles

and clothing quotas will be phased out at the end of 2004 as for all other developing

countries and the special safeguard will remain valid until the end of 2008, developing

countries should take this opportunity to restructure their industries and enhance their export

competitiveness.
China is, however, likely to have a stronger hold in more skill- and capital- intensive goods

over time, e.g., semi-conductors. So far, the FDI-driven assembling type industries are low

value adding. As China has a huge human and technological base and great potential to

attract more FDI, it is likely that China will move up along the value added chain. This

should leave more room for low-income developing countries, such as South Asian countries

and poorer ASEAN countries, to expand their labor- intensive exports. But China has huge

labor force and vast undeveloped regions in the west, which will continue to exert pressure

on its foreign competitors in labor- intensive goods for some time to come.

In this context, it is important to note that so far Asian developing countries have generally

adjusted well to China’s emergence. China’s exports to the US market are largely wearing

apparel, footwear and household goods followed by semiconductors and related good. NIEs’

exports are primarily semi-conductors, followed by apparel, footwear, household goods.

ASEAN-4 exports are broadly similar to China, but they seem to be moving away from

apparel, footwear and household goods to semiconductors and/or related goods (Loungani

2000). ASEAN-4 may feel some effects of China’s WTO impact but it is likely to be gradual.

Poorer ASEAN and South Asian countries are gaining competitiveness in very labor-

intensive products, such as cotton textiles and clothing.

China has complementarity on the bilateral basis, not always competition, with other

countries in the region. For example, China and India are broadly similar in terms of

underlying sources of comparative advantage. They compete on some export markets, but

they also compliment bilaterally. China’s trade with India has more than doubled over last

six years or so to $2 billion (IEB 2001). Further trade growth with South Asia is possible due

to China’s increased openness.

China has established itself as a formidable competitor in export markets, not on the basis of

a begger-thy-neighbour policy, but on productivity improvement (OAAP 2002a). From 1997

to 2000, Chinese exports to the United States increased from 20% of Asia's total to 24%,

while ASEAN's share declined slightly. This has occurred despite marked weakening of

ASEAN currencies vis-a-vis China's Renminbi2 . Their export market share in cheap labor

based goods like clothing and household goods is decreasing (Kwan, 2002). Thus the key

issue for ASEAN countries is no t so much of China’s increasing competition; rather, it is

their domestic policy that is critical to facilitate structural changes and increase their export

competitiveness.

Will there be FDI diversion at the expense of other developing countries? China has the

world's third largest stock of FDI, after the US and the UK (OAAP 2002b). After attracting a

total $47 billion in 2001, China’s annual FDI inflows may soon exceed $50 billion as WTO

membership will boost investor confidence in the country's economic prospects and business

environment 3 . Foreign firms are attracted by China's relatively high GDP growth rate;

growing demand for consumer goods; an increasingly skilled and educated workforce;

improved infrastructure; and a more predictable business environment. Since the early 1980s

China has drawn significant investment from regional conglomerates as well (OAAP 2002a),

this is the capital that ASEAN policymakers would prefer to keep at home. Moreover, FDI

flows into ASEAN countries are increasingly in the form of mergers and acquisitions,

compared to ‘greenfield’ (new) development in China.

2
On a real, trade-weighted basis, the Renminbi has appreciated nearly 20% since January 1996, while the
Baht, Ringgit and Peso have depreciated between 10-15%.
3
Including Hong Kong, China now takes 70% of all FDI in Asia, and that percentage is likely to increase
as a consequence of China’s WTO accession (OAAP 2002b).
While China’s increasing openness may raise the cost for other developing countries to

attract FDI, it also represents a window of opportunities for foreign investors, including those

from other developing countries (Wang, 2001). For example, the services sector will provide

many opportunities in the future, particularly in banking, insurance, distribution,

telecommunications and professional services. Restructuring of manufacturing (e.g., machine

tools, electrical equipment, information technology, pharmaceuticals, biotech) will need

foreign capital, technology and managerial skills. India, for example, has begun to invest in

China’s information technology industry and increased its exports of computer software to

China. Technology exporters are likely to gain in general in manufacturing as well as

farming (Japan, EU and US). So will energy suppliers (e.g., Indonesia and some Pacific

Island countries, in addition to OPEC countries) and cereals exporters (e.g., Thailand,

Vietnam, Australia, and the United States).

Future FDI behavior in China is likely to be different from the past. FDI inflows in China’s

protected manufacturing industries will likely to slow, while investment in services industries

will pick up. Even in services industries, the gradual phasing out of restrictions will

moderate the pace of investment inflow. Overall, FDI inflows to China will increase, but

unlikely dramatically. It is also important to remember that in competition for attracting FDI,

China does not have advantage versus other Asian developing countries in every aspect. For

example, it will probably take China a long time to catch up with some ASEAN countries

where legal institutions are more developed.

When it comes to FDI, it is important to note that China is also a larger investor overseas,

and its outward FDI flows are expected to grow further (OAAP 2002b). By the first half of

2001, Chinese companies had set up 6,439 firms in 160 countries and committed to investing
7.7 billion dollars in projects in trade, natural resources exploration, transportation, labor

services and agriculture. Large Chinese companies are investing more overseas as a means to

bypass quotas and other trade barriers. In many cases, Chinese investors use manufacturing

equipment as equity to form joint ventures with local partners, which usually provide land

and infrastructure in return.

Will China be able to comply with the WTO commitments? Foreign investors will watch

carefully how China will improve its corporate governance – legal framework, judiciary

system, accounting and auditing practices. There are therefore big challenges to the

government. Enterprises, farm workers and professionals will also have to adjust to new

economic circumstances. The government’s nature and role will have to change, and relevant

laws and regulations will have to be introduced to improve consistency and transparency4 .

These are daunting tasks given China’s size, but based on past record on structural

adjustment, there is a good chance that China will be able to comply its WTO commitments

(OECD 2002)

What will happen to Renminbi? The WTO accession will boost China’s credibility as it

would mean not only openness but also increased transparency, better governance, and

predictability. This will attract more capital inflows, resulting in a stronger Renminbi, and

stronger demand for goods and services from the rest of the world. If China fails to comply

with its WTO obligations, investors (both domestic and foreign) will have less confidence in

the economy and Renminbi will weaken, resulting in more competition in the short run, and

reduce the long-term growth prospects for other developing countries in the Asian region

(Yang, 2002).

4
Recently the State Council abolished 221 laws, but more to be done to improve consistency and
transparency).
IV. Concluding Remarks – threat or opportunity?

It is important to keep in mind that China’s opening up has been going on for more than two

decades; developing countries have in general benefited from this process (Yang and Vines

2000). China’s WTO accession is just an extension of this long-run process and should

further benefit both industrialized and developing countries. In addition, China’s WTO

accession has been designed to be gradual and less disruptive to itself and other member

countries (Adhikari, 2001). This is reflected in the phased- in approach to market access to

China and its partner countries, buttressed by safeguard measures, even though some of them

are discriminatory against China and are likely to damage the interest of countries that invoke

them.

The emergence of any large economy of China’s size will inevitably have significant

implications for world production, trade and investment, and hence employment 5 . China’s

increasing openness will pose challenges to other developing countries. To meet these

challenges, they must restructure their industries and enhance their export competitiveness

where they have comparative advantage, and exploit new opportunities in China’s

increasingly open market. China’s opening up is not a zero-sum game; it will provides

unprecedented market opportunities for its trading partners as well as increased competition

in the world market.

China itself also has enormous tasks ahead for further reform. China needs to restore

solvency to its banking system, restructure state-owned enterprises and farm businesses, and

develop its western regions. In the long run, the real competition between China and other

developing countries lies in the pace of domestic reform. What will happen in trade will be

5
Based on 2000 data, China is the sixth largest market (GDP); seventh leading exporter and eighth largest
importer of merchandise trade; also tenth leading importer and twelfth leading exporter of services.
simply an outcome of that competition. In any event, an open and prosperous China is good

for the rest of the world

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